The latest victim of European austerity policies is Spain, where unemployment is at depression levels, 24% headed to 30%, and youth unemployment over 50%. Paul Krugman says that austerity is a failure, just as he and sane economists predicted. The Bundesbank, Germany’s central bank, sent a couple of envoys out to explain that Krugman is dead wrong, and even if he isn’t, the Bundesbank doesn’t care.

Dr Andreas Dombret, a member of the Executive Board, says that the formerly middle class citizens of bad countries like Spain, Italy and Greece, must pay the price for the ravages of the rich. They get crushing reductions in wages and increased unemployment, while prices and output drop. This will reassure the rich, who will then buy their country’s bonds. Dombret doesn’t explain why that’s such an important goal, so it must be obvious to everyone but me. The Germans have been good, so they don’t have to pay the rich nearly as much.

Dombret says that this is a one-time deal: crush the working and middle classes today and everything will work out just fine in the long run. And it isn’t like Germany is doing nothing: it has put up huge sums of money to make sure that its banks don’t fail and bondholders don’t suffer any losses.

Dombret’s view was echoed by the President of the Bundesbank, Jens Weidmann. Weidmann says there are two problems, staggering unemployment and sovereign debt. Guess which one is important. Weidmann points to the huge stabilization fund which will protect bondholders and probably bank stockholders, in case you guessed that his concerns extend to the formerly middle class citizens of Greece.

It is true that consolidation, in particular, might, under normal circumstances, dampen aggregate demand and economic growth. But the question is: are these normal circumstances? It is quite obvious that everybody sees public debt as a major threat. The markets do, politicians do, and people on Main Street do.

A widespread lack of trust in public finances weighs heavily on growth: there is uncertainty regarding potential future tax increases, while funding costs are rising for private and public creditors alike. In such a situation, consolidation might inspire confidence and actually help the economy to grow.

The only important thing is the confidence of the rich. They need to know that their needs come first. Consider where these two speeches were given: Weidmann spoke to The Economic Club of New York, and Dombret spoke to the Euromoney Germany Conference in Berlin.

How is this policy supposed to work? Dombret explains that there are two problems. First these bad countries have “macroeconomic imbalances” meaning that they are running trade deficits, much of which is inside the European Union. In the past, they would have simply devalued their currencies. With the Euro, that cannot happen. Now the only choice is to crush the middle class and restructure their societies through productivity increases, lower monopoly rents (which at least makes sense) and reduced regulation.

The second problem is the need for fiscal consolidation, meaning lower national debt. Dombret acknowledges that this will be nasty for the middle class, but he has priorities.

However, this crisis is a crisis of confidence. While, under normal circumstances, consolidation might dampen the economy, the lack of trust in public finances and in policymakers’ willingness to act is a huge burden for growth. Thus, frontloaded, and therefore credible, consolidation would instead strengthen confidence, actually help the economy to grow and reduce the danger of the crisis spreading to the financial system.

See? The confidence fairy will show up to solve every problem, most importantly, prevention of losses in the financial system.

After trashing Keynesian solutions, Dombret then explains that we can’t use monetary policy to fix things either, because that would make rich people afraid of inflation. Weidmann disagrees with Dombret on this. He isn’t afraid of inflation, he is afraid of asset bubbles, or creating conditions in which unsafe banks will not reform themselves. At least they agree on the necessary policy goal: Price Stability. And they agree on the necessary policy: Do Nothing and let millions of people suffer, but take no action that might hurt the rich.

On a minor hopeful note, the Green Party has a different idea, a one-time tax on capital as a partial payment by the richest citizens of Germany for the ravages they inflicted on the rest of their country. This paper examines the impact of such a tax, and says it might raise $100 billion, approximately the increase in German national debt since 2007. Wealth in Germany is highly concentrated at the top, as it is here, and the tax would be relatively easy to enforce. In the US, of course, even suggesting such a thing puts you outside the boundaries of acceptable discourse.

In Europe as in the US, we have to destroy the middle class in order to save it.

20 Responses
to “The Bundesbank Explains Its Grinder Policies”

Germany is following the wisdom of the WWI Allies in the Versailles Treaty…crushing debt reparations resulting in a trashed economy throughout the 1920′s.
Of course, it all worked out so well with the Austrian guy who came along to fix all that in 1933.

However, this crisis is a crisis of confidence. While, under normal circumstances, consolidation might dampen the economy, the lack of trust in public finances and in policymakers’ willingness to act is a huge burden for growth.

Argentina wrote off its debt increased social spending and has been facing a boycott by bankers yet they have less unemployment and higher growth rates than Greece or Ireland.

Executives with adrenaline addiction are the ones always pecking away at their
Blackberries during meetings, talking on their cell phones during every five-minute break
from those meetings, and checking e-mail late at night. They go from meeting to meeting
to meeting with no time in between for reflection or thought.

Always overwhelmed, adrenaline junkies seem to have a constant need for urgency, even
panic, to get them through the day. They cannot grasp the race driver’s motto: you have
to slow down to go fast. Instead, they keep their foot on the pedal at full throttle,
convinced that any deceleration is lost opportunity.

On a minor hopeful note, the Green Party has a different idea, a one-time tax on capital as a partial payment by the richest citizens of Germany for the ravages they inflicted on the rest of their country.

Maybe a one time tax on the rich in every country that is getting a bailout or has bailout their own rich is needed to address the damage long term low tax rates for the rich have caused. Then we use that money worldwide to create jobs.
Or we can keep going as we are and see more Arab Spring spreading to the 1st world and or more Lefty governments get elected and of course more Hitler type right wing governments take over.
The Right in France is had their best election in a while.

The paper I linked has a brief discussion of why this isn’t necessarily a good idea. It proposes that the tax be assessed with a large exemption, and the possibility of paying it off over 10 years with a fair interest rate.

The really big hedge dudes,i.e. ,Dalio ,Soros ,Paulson ,are leveraging mega-billions by shorting German bonds . These are likely option plays comprising gold and currency ,but the salient point is they believe the bundesbank will stay the course and throw its own people under the bus , as the racket implodes ,and it can’t continue to deploy austerity as a means of inducing capital flight from its debter-states to subsidize itself and bridge against the trillions of exposures it holds throughout euroland .